On 3 December 2014, the government announced that it would introduce a new exemption from the requirement to deduct tax at source from yearly interest where the interest is paid on a ‘qualifying private placement’. The intention is to unlock a new source of financing for mid-sized UK borrowers, reducing their dependency on the banking system.

Under the current rules, broadly a UK company is required to deduct income tax from interest payments that it makes and pay the income tax over to HMRC. There are a number of exemptions, including where the interest is paid to a UK bank or UK branch of an overseas bank and where the security is listed on a recognised stock exchange (the quoted Eurobond exemption). If the interest is paid to an overseas lender, the withholding tax may be reduced or eliminated if there is treaty relief under a suitable double tax treaty.

The new rules introduce a further exemption aimed at plain vanilla forms of debt issued to an unconnected party which is a UK regulated financial institution or an equivalent overseas entity, without the need for the security to be listed on a stock exchange or for treaty relief to be claimed. In order to qualify for this exemption, a number of conditions must be satisfied:

the terms of the loan must not provide for the loan to be terminated within a three year period;

the security must not be listed on a recognised stock exchange;

the placement must meet other conditions as set out the Treasury in regulations to be introduced.

It is currently proposed that the regulations will set out the following further conditions:

Issuer of the security
The issuer of the security must be a ‘trading company’ as defined. This means that the company or group must not carry on a ‘substantial’ amount of non-trading activities, such as investment activities. ‘Substantial’ is interpreted by HMRC as meaning more than 20%. It is not currently clear whether the issuer can be a holding company of a trading group.

The qualifying private placement made by an individual company must be between £10 million and £300 million.

Holder of the security
The holder of the security must:

not be connected with the issuer of the security;

must be a UK regulated financial institution, or an equivalent entity authorised outside the UK carrying on as a substantially similar business. An equivalent entity is required to be resident in a ‘qualifying territory’, which is a territory with which the UK has a double taxation treaty which includes an appropriate non-discrimination article.

Conditions applying to the security
The regulations will include certain conditions intended to ensure that the exemption applies at market – standard, plain vanilla forms of debt. It is envisaged that the instrument must:

be unsubordinated to any existing unsecured debt of the issuer;

have a maturity of between 3 and 30 years;

pay interest at a normal commercial rate;

be issued in a minimum denomination of £100,000;have no right to conversion into shares of the issuing company.

Securities held for an unallowable purpose

The security must be issued and held for genuine commercial reasons, and not be part of a tax advantage scheme. A tax advantage scheme is a scheme the main purpose, or one of the main purposes, of which is to obtain a tax advantage.

Other conditions
There will be additional regulations providing for the consequences of the placement terminating within a specified period.

Comment
The new relief is generally being welcomed as this should make it easier for medium-sized UK borrowers to obtain third party funding.